Securities fraud is a variety of activities that are considered to undermine the integrity and efficiency of the securities markets.
Securities Fraud Enforcement
Securities fraud can fall afoul of one or both of civil regulators and criminal enforcement bodies. Civil infractions are generally regulated by the Securities and Exchange Commission, while criminal infractions are enforced by the Federal Bureau of Investigation. Often these two bodies will coordinate efforts, since most cases of securities fraud are both civil and criminal infractions.
Common Forms of Securities Fraud
Securities fraud comes in a variety of forms. Below is a list of some of the most common forms of securities fraud.
High Yield Investment Fraud
High yield investment fraud involves the false guarantee of unrealistically high returns, or a similarly unrealistic guarantee of the elimination of any potential risks.
Ponzi schemes represent themselves as legitimate investment funds, but merely use the principal to make interest or dividend payments while charging legitimate commissions and fees or performing additional fraudulent practices. Ponzi schemes maintain themselves through the continued incorporation of new investors to maintain their fraudulent payments.
Advanced Fee Scheme
An advanced fee scheme involves the fraudulent solicitation of an advanced payment that is supposedly to be used to release some larger fund, which will then repay the advanced payment with additional return. These schemes can range from the plausible to the absurd, such as the infamous ‘Nigerian prince’ scams.
Pump and Dump
A pump and dump scheme involves a party with a fiduciary duty, usually a broker, who uses their professional position to artificially inflate demand for a security that they are holding. They then sell their securities into the market at the inflated price.
Embezzlement is simply the act of misappropriating funds that one has a fiduciary duty to hold, manage or oversee.
Insider trading involves the use of privileged information to make restricted trades. For example, a lawyer working on a merger deal uses information from the deal to trade in the shares of one or more of the companies involved. Since the lawyer has privileged information that other market participants do not have access to, this is considered a breach of the integrity of the market.
Accounting and Auditing Fraud
Accounting and auditing fraud involves the misrepresentation of reported financial information that leads to an incorrect image of the state of a company.
Duping involves the use of fake market orders that the user has no intention to fill in an effort to create a false sense of market activity. Duping is most effective in obscure markets with low liquidity, which allows a small number of orders to have an out-sized impact on the market.
Securities fraud comes in many different forms, and often skirts the thin line between competitive and fraudulent practices. Regulation and enforcement bodies are most concerned with maintaining an image of ‘fair-play’ that encourages people to invest in the markets without undue concern for being defrauded, and this concern drives their development and enforcement of securities regulations.